Tax Distractions: The Effects of Temporary Tax Law on Capital Markets

Wednesday December 7, 2016

This paper investigates the extent to which the expiration of a temporary tax law reduces market participants’ ability to understand corporate performance. Examining evidence from eight separate expirations of the R&D tax credit, I find that analysts’ forecast errors, abnormal bid-ask spreads, and abnormal volume increase surrounding quarterly earnings announcements for firms affected by the R&D tax credit. These increases suggest difficulties in interpreting performance that are affected by the expired R&D tax credit. The results of this study call attention to previously unexplored costs of temporary tax laws, namely, capital market confusion related to temporary tax laws.